Binary options offer financial markets speculators an easy way to trade with limited downside risk: binary options strategies. Unlike the underlying assets themselves that have potentially unlimited trading risk, binary purchases generally require a fixed price or premium to perhaps receive a given payout.
A major advantage of using binaries arises from eliminating the risk of order slippage that can occur in especially volatile markets. Not all binary options types suit all market views, so it makes sense to study what each type has to offer and craft a winning binary strategy. Here's how to get started.
- What Makes A Great Binary Options Strategy?
- Strategy 1: Directional or Trend Trading
- Strategy 2: Swing Trading
- See All 7 Items
What Makes A Great Binary Options Strategy?
As most experienced traders will tell you, the binary option trading strategy you choose paves the way for your eventual success or failure. In general, a great binary option strategy will be one that involves a trading method or which generates a signal that makes your binary option trades consistently profitable.
Some of the best binary option strategies operate in very short time frames suitable for short term expirations of one minute to one hour. Other strategies might focus on forecasting end-of-day or end-of-week levels that correspond to daily or weekly close binary expirations.
Any great trading strategy consists of one that works in practice to generate respectable profits given the time invested. Also, test a strategy in a demo account and have a sound money management strategy to complement your trading signals.
The key elements of your binary options trading strategy should include:
- The type of binary option used
- When to use it
- The amount to trade
- Your exit plan.
You will also want to determine what the best binary options type will be for your particular trading style and objectives.
For example, many binary option brokers will provide pricing in up/down, one or no touch, boundary and double one or no touch binary options. Each of these types can suit a particular directional view.
The sections below will discuss some of the more popular trading strategies that binary option traders use. You can also combine some of these strategies or create your own from a combination of technical trading signals.
Strategy 1: Directional or Trend Trading
When an asset’s price or an exchange rate generally moves in one direction or the other within a given time period, a trend exists in the direction of the overall movement.
If the market value moves upward and makes higher highs in the process, it forms an uptrend. Conversely, if the market generally declines and makes a series of lower lows, it creates a downtrend. Trends can show up on charts on any time frame, so binary option traders can usually trade them effectively. The schematic diagram below shows what uptrends and downtrends look like.
Those who trade trends with binary options generally overlook small swings in market valuation. Instead, they put their attention on discerning the overall directional move within a particular time frame using technical analysis techniques and indicators.
Trend trading involves taking fewer positions for bigger gains than most other trading strategies, so commissions usually seem minimal. A trend trading strategy seems appropriate to use with high-commission brokers that offer a wider range of binary products and asset classes.
A popular trend trading method, which virtually all binary options brokers offer, involves the use of the call/put binary option. A call binary option pays off if an asset’s price ends up higher than its strike price after a set period of time. A put binary option pays off if the value finishes lower than its strike price.
Trend traders can also use the riskier, but potentially more profitable, one-touch binary option. This involves predicting a target level that you expect the market will reach within the trend to achieve a payout once that level trades.
Some trend traders even use a combination of both binary option types. This generally costs less than using call/put binaries and helps them increase potential profits if their directional view pans out.
Strategy 2: Swing Trading
Instead of trading the overall trend, you could achieve higher gains by trading each swing in an asset’s value as it moves up and down in a non-linear fashion. Such price swings also tend to occur in predictable patterns and proportions. This can give savvy binary option traders an opportunity to profit.
While trend traders tend to ignore these market fluctuations by focusing on the overall direction, swing traders nimbly switch directions to profit from them. Swing traders tend to trade more often than trend traders, which can increase transaction costs.
Swing trading also involves having a good sense of market momentum. This requires you to reverse positions when market trends wane, while holding positions in the direction of the trend while the trend remains strong.
As a swing trader, you have several chances to use binaries to benefit from a trend and its various corrections, instead of just holding a binary option position in the direction of the trend. Since these swings tend to be of a shorter-term duration than the overall trend, you can often position for them using binary options.
For example, you could buy a call binary when a downswing occurs within an upwards trend in anticipation of a subsequent move higher. In another scenario, you could purchase a put binary when an upswing materializes in a downtrend, since the market might then reverse and continue its overall move lower.
Furthermore, you can buy a put or call binary when the market looks respectively overbought or oversold in anticipation of a counter-trend correction.
Strategy 3: Range and Range Breakout Trading
Range and range breakout traders consist of those who identify trading ranges and attempt to profit from them. Trading ranges occur when a market fluctuates within upper and lower boundaries.
If you plan on employing a range trading or breakout strategy, you will tend to use boundary binary options. In boundary binaries involve setting an upper and lower value that you expect the market will remain between by the time the option expires.
Alternatively, if you wish to trade a breakout of a trading range, you can instead use an out boundary binary option. This lets you set a range with boundary levels that you expect the market to trade outside of at expiration.
Strategy 4: News Trading
Fundamental traders sometimes rely on key news releases to create market volatility they can profit from. When a news outcome improves on the market’s consensus, the result seems favorable for the asset or currency affected. This typically leads to a higher market valuation. Conversely, when the result disappoints the market, a negative effect on valuation tends to occur.
One of the major risks involved in trading such news events consists of stop-loss order slippage. Requotes and/or market order execution delays can also result in a serious unanticipated loss for a trader. These issues seem especially likely to occur even with reputable brokers in the volatile or “fast” markets surrounding a key news release.
Using binary options to trade the news can eliminate this execution risk completely and make a news trading strategy much safer. Still, it pays to keep in mind that news trading outcomes remain quite unpredictable due to significant variations in the size and duration of news-related moves.
Depending on what you expect to occur, these possible binary option alternatives could fit into a news trading strategy:
- If you expect a large move in either direction by expiration, you can buy an out boundary option. This pays off if the market ends up outside the specified range upon expiry.
- If you expect a large move in either direction shortly after the news release, you can buy a double one-touch binary that pays off if either trigger level gets breached before expiration. The trigger options used in this strategy will often have a very short time until expiration, such as 60 seconds, to maximize returns and minimize cost.
If you observe a large move shortly after the news release and you expect a retracement to follow, then you can buy a call binary if the market fell after the release or a put binary if the market rose. If the market does indeed snap back, then buy a put binary once the correction higher seems to wane or a call binary if the correction lower starts to fade.
Assuming both options have the same strike price, the goal of this news strategy involves legging into a long binary straddle position that has a 100% chance of paying out no matter whether the market rises, falls or stays the same.
Strategy 5: Candlestick pattern trading
Candlestick charts display some well-defined patterns that technical analysts often consider to have predictive value. While a detailed discussion of how to trade based on candlestick formations seems outside the scope of this article, an excellent book to learn about with the subject in detail is Japanese Candlestick Charting Techniquesby Steve Nilson.
An example of a candlestick pattern you can use in binary option trading: if you observe a gap on the candlestick chart under normal trading conditions, then it may indicate a future move in the direction of the gap.
For example, if the market gapped higher, it would suggest purchasing a binary call option. A gap to the downside would indicate buying a put binary.
Final Thoughts
Binary options strategies can only get you so far, since your broker and various other factors can also impact your success. Selecting a suitable trading partner from among the best binary option brokers for your trading style and strategy contributes another key element to a winning binary option trading plan.
If you reside outside the United States, you have many binary option broker choices. If you’re a U.S. resident, you will generally want to use either Nadex or the CBOE as your binary option execution service. To give you a sense of what to expect at Nadex, a screenshot of the broker’s online trading platform and its binary option dealing form for a EUR/USD trade appears below.
